Today we’ll evaluate Q Technology (Group) Company Limited (HKG:1478) to determine whether it could have potential as an investment idea. In particular, we’ll consider its Return On Capital Employed (ROCE), as that can give us insight into how profitably the company is able to employ capital in its business.
First, we’ll go over how we calculate ROCE. Second, we’ll look at its ROCE compared to similar companies. Then we’ll determine how its current liabilities are affecting its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE measures the amount of pre-tax profits a company can generate from the capital employed in its business. Generally speaking a higher ROCE is better. Ultimately, it is a useful but imperfect metric. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since ‘No two businesses are exactly alike.
How Do You Calculate Return On Capital Employed?
Analysts use this formula to calculate return on capital employed:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
Or for Q Technology (Group):
0.15 = CN¥351m ÷ (CN¥7.8b – CN¥5.4b) (Based on the trailing twelve months to June 2019.)
So, Q Technology (Group) has an ROCE of 15%.
Does Q Technology (Group) Have A Good ROCE?
One way to assess ROCE is to compare similar companies. Using our data, we find that Q Technology (Group)’s ROCE is meaningfully better than the 10% average in the Consumer Durables industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Independently of how Q Technology (Group) compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
Take a look at the image below to see how Q Technology (Group)’s past growth compares to the average in its industry.
When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Since the future is so important for investors, you should check out our free report on analyst forecasts for Q Technology (Group).
What Are Current Liabilities, And How Do They Affect Q Technology (Group)’s ROCE?
Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills that need to be paid within 12 months. Due to the way the ROCE equation works, having large bills due in the near term can make it look as though a company has less capital employed, and thus a higher ROCE than usual. To counteract this, we check if a company has high current liabilities, relative to its total assets.
Q Technology (Group) has total assets of CN¥7.8b and current liabilities of CN¥5.4b. As a result, its current liabilities are equal to approximately 69% of its total assets. This is admittedly a high level of current liabilities, improving ROCE substantially.
Our Take On Q Technology (Group)’s ROCE
While its ROCE looks decent, it wouldn’t look so good if it reduced current liabilities. Q Technology (Group) shapes up well under this analysis, but it is far from the only business delivering excellent numbers . You might also want to check this free collection of companies delivering excellent earnings growth.
If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.
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